What kind of transitional arrangement might work for Brexit?

The Prime Minister stated in her Brexit speech on January 17 that the UK will work to negotiate a bespoke Free Trade Agreement (FTA) with the EU. She also said there will be a phased transitional arrangement for the implementation of that agreement. But in her next breath she stressed that the UK would not be seeking an open-ended transitional arrangement.

Many will have wondered – what’s the difference between “a phased” transitional arrangement and one that is not “open ended”. And what can the UK hope to achieve in a transitional arrangement? Can it smooth the move from the single market to a new trading arrangement with the EU and do so in a form that is “WTO” compliant?

The starting place is what is meant by a “transitional arrangement”. In the trade world, the need for transitional arrangements presupposes that a full deal will be achieved. The agreement reached will include provisions on how it will be implemented and in what timeframe. But what if it becomes clear that the negotiations for a full FTA will take more than the two years envisaged from the triggering of Article 50 of the EU Treaty?

Might the UK and EU enter into some other kind of transitional or interim arrangement to buy more time?

Let’s consider the options.

Assuming notice to trigger Article 50 is given in March this year, as the Prime Minister anticipates, Article 50 itself envisages that the UK and the EU could agree to extend the two year negotiating period. This arrangement would, in theory, result in the UK continuing its membership of the single market until a new FTA is concluded.

This notion of a transitional agreement that continues UK membership of the EU in the meantime is unlikely to be palatable in the current political climate on either side. But closer to the end of the two year negotiation period it might be viewed as a convenient means of allowing time to resolve all issues and strike a comprehensive new trading arrangement. It would also ensure business and industry avoid the disruption and uncertainty from the feared “cliff edge” under the fall-back option of “no deal is better than a bad deal”. Of course, fears from uncertainty will still apply if a decision on extension of the Article 50 notice period is left to the end of a furious two years of negotiation, and subject to brinksmanship. Or if it becomes clear that certain EU countries are steadfast in opposing an extension.

A more certain kind of transitional agreement could be possible under WTO rules if the UK and EU formally enter FTA negotiations in the Article 50 notice period. This might apply from the date the UK formally leaves the EU, but be used to preserve current trading arrangements. In contrast to the extension option, it could also allow the UK to begin trade negotiations with third countries.

FTAs are an exception to the “Most Favoured Nation” principle that underpins the WTO. This requires that all market access concessions offered to one WTO member must be offered to all. FTAs – which by nature provide reciprocal agreement to preferential market access between the parties – are allowed as an exception to this rule on the premise that they increase trade and economic integration between the countries concerned. But to be WTO compliant, an FTA must cover “all substantial trade” between the parties. It cannot be piecemeal and cover only those sectors where the parties can more quickly agree concessions.

WTO rules allow members to adopt an “interim agreement” where it will lead to the formation of an FTA or a Customs Union. This recognises that agreeing on some issues will be easy, while achieving a comprehensive arrangement that also addresses more difficult issues will take more time.

Could such an “interim agreement” that maintains the status quo – i.e. UK membership of the single market, continued EU budget contributions etc. – for most or all trade-related aspects be negotiated as the basis of the “transitional arrangement” envisaged in the Prime Minister’s speech? If so, what requirements would need to be met?

A key requirement under WTO rules is that an interim agreement must set out a plan for the conclusion of the full FTA within a “reasonable” period of time. This is generally understood to be a period no longer than 10 years, so the UK and EU would be able to provide for a considerably longer period to conclude a comprehensive trade deal. The interim agreement would not be able to set higher duties or more restricted market access on the trade of third parties, compared to those applied by each party to the proposed FTA members when adopting the interim agreement – but there is no reason to suspect that either side would want to raise barriers to access to trade from other countries compared to the status quo. A tick in that box then.

Formalities will need to be considered. Interim agreements must be notified to the WTO. Arguably, notifying any agreement under the WTO framework would require the UK to have reassumed its position as an independent WTO member. So here also the UK will find itself in uncharted waters, and the UK Government would need to give careful consideration to sequencing if the interim agreement route emerges as the preferred option to provide further time to reach a comprehensive UK-EU FTA. But, in principle, an interim agreement could provide the UK and EU with the legal scope to for a transitional arrangement that provides more time to reach a comprehensive trade deal.

Brexit: planning for the future as negotiations continue

We have created this Brexit blog to provide up to date analysis and legal commentary as the new Brexit landscape evolves, addressing key questions and topics of interest to our clients across the different industry sectors in which they operate.